Already, India’s debt market has seen some capital outflows, with funds redeploying money to safer US government bonds. Recently, the RBI appears to have factored this, and has relaxed rules for foreign portfolio investors to invest in Indian government bonds. The expectation is that shorter maturity bonds will see FPIs resuming investments. Reportedly, Fed officials have raised concerns, of late, over overheating of the US economy, and debated whether the Fed may need to resort to a sharper hike in interest rates.
India needs to be prepared for any such eventuality. Already, the rupee is weakening against the dollar and this could jack up import costs. Further, an increase crude prices and a weaker rupee may widen the current account deficit. Steps must be taken to counter a steep slide in the rupee. Policy makers should focus on ensuring that the fisc is in a better shape, and strengthen the supply side management to keep inflation under check.